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UK must link to EU ETS to reach net-zero cheaply: generators

16 April 2021 Cristina Brooks

Higher costs for power generators and energy-intensive manufacturers may be in store if the UK fails to link up to the EU's parallel carbon pricing scheme by November.

The warning was issued to UK Prime Minister Boris Johnson by a coalition of 40 industry groups, representing both fossil fuel and renewable energy generators as well as energy traders, in a 14 April letter sent by the International Emissions Trading Association (IETA).

The UK is relying on carbon pricing as one of the many policy mechanisms it needs to reach its 2050 net-zero emissions goal.

The UK launched its own analog of the EU Emissions Trading System (EU ETS) the day it departed the EU. Both sides promised to give "serious consideration" to linking up in the text of the Brexit agreement, but this may grow difficult as each goes their own way on their decarbonization policy.

Already, the UK's target of a 68% emissions reduction by 2030, set last year, diverges from the EU's proposal for a 55% target in 2019.

The UK also plans to set a higher bar for its industries than the EU ETS, with 5% fewer allowances in circulation than the UK had under the EU scheme and a minimum price of £22/mt of carbon dioxide equivalent ($20.40/mt of carbon dioxide equivalent) for allowances, according to law firm Pinsent Masons.

However, the UK's ETS only covers 1,000 installations in the UK, a fraction of the 11,000 covered in the UK under the EU ETS before it quit the bloc.

For now, the two systems are similar enough to pair up. "Given the similarities between the UK and EU's carbon trading regimes, there should be no two emissions trading systems that are easier to link," Adam Berman, IETA European Policy Director, wrote in the letter.

He said the signatory businesses needed visibility on carbon prices to attract investment in decarbonization, whether in Europe or in the UK, and to defend against unfair competition from businesses beyond the regime's reach.

Power sector needs price stability to decarbonize

Linkage between the UK and EU on carbon pricing is especially key for power generators at a time when states are giving them targets for rapid decarbonization. "It is clear that any linking agreement between the EU ETS and UK ETS will require complex negotiation and lead to uncertainty for market participants if this takes too long," the IETA it said in a similar letter to UK officials sent last June.

The first auction of UK allowances, which are exemptions to paying carbon prices needed by generators, is scheduled on 19 May.

It won't be early enough for the UK power market, according to some energy traders. Traders wrote to UK officials saying a shortage of allowances was affecting the functioning of the UK power market and asking for an earlier auction.

The EU ETS is on a separate race track. The European Commission expects to propose a politically controversial carbon tariff, called the Carbon Border Adjustment Mechanism (CBAM) as well as proposals to include more aviation emissions in the EU ETS by June.

Even with the rapid pace of change for carbon pricing systems, many high-carbon manufacturers, as well as power generators, seek stable carbon pricing to create scenarios that spur long-term green investments.

For example, the investment case for hydrogen and carbon capture, utilization and storage, emerging industries in which the UK is investing heavily, is often based on a future scenario where they can use these technologies to avoid carbon prices.

Posted 16 April 2021 by Cristina Brooks, Senior Journalist, Climate & Sustainability, IHS Markit

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